Standing Facilities and Interbank Borrowing: Evidence from the Federal Reserve's New Discount Window

Posted: 28 Jan 2004

Abstract

Standing facilities are designed to place an upper bound on the rates at which financial institutions lend to one another overnight, reducing the volatility of the overnight interest rate, typically the rate targeted by central banks. However, improper design of the facility might decrease a bank's incentive to participate actively in the interbank market. Thus, the mere availability of central bank provided credit may lead to its use being more than what would be expected based on the characteristics of the interbank market. By contrast, however, banks may perceive a stigma from using such facilities, and thus borrow less than what one might expect, thereby reducing the facilities' effectiveness at reducing interest rate volatility. We develop a model demonstrating these two alternative implications of a standing facility. Empirical predictions of the model are then tested using data from the Federal Reserve's new primary credit facility and the US federal funds market. A comparison of data from before and after recent changes to the discount window suggests continued reluctance to borrow from the Fed.

Keywords: Discount loans, primary credit, discount window

JEL Classification: E52, G21

Suggested Citation

Furfine, Craig, Standing Facilities and Interbank Borrowing: Evidence from the Federal Reserve's New Discount Window. International Finance, Vol. 6, No. 3, pp. 329-348, 2003, FRB Chicago Working Paper No. 2004-01, Available at SSRN: https://ssrn.com/abstract=492142

Craig Furfine (Contact Author)

Kellogg School of Management - Department of Finance ( email )

Evanston, IL 60208
United States

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